Wednesday, January 2, 2013

How Does Your Garden Grow?

A new year and some new resolutions. So it is, at least with the fiscal cliff and the 112th congress, charged with being the least decisive, most acrimonious and least accomplished government in US history. Digging around in the weeds of their recent budget negotiations, however, reveals just how unruly our garden has become.

By now we all know of the excesses of our past debt cycle. We're all deleveraging and this has its contracting forces on the economy. Well, at least most of us are deleveraging. The Federal government is re-levering at an unprecedented rate. The Federal debt now tops $16 trillion, up from a paltry $8.6 trillion at the end of fiscal year 2006. In so doing, our ratio of debt to GDP has climbed from 70% to in excess of 100%.

The debt cycle of the past 25 years produced other great distortions, though, and its unwinding will be no small feat. Inflated housing prices and artificially high consumer spending are the first to come to mind. But the impact that this leverage has on the economy reveals many lesser known dangers, as well.

During the salad days, state and local governments saw ever rising tax revenues, prompting generous union concessions for retirement benefits. State and local government operating budgets were built around these same lofty tax projections. Each of these plans are now in shambles as slowed consumer spending has collapsed sales tax revenue, while lowered real estate values have crumbled property tax collections.

Colleges and universities also built future plans around seemingly limitless revenue growth. Tuition grew so rapidly over the past twenty years, in fact, that the demand for college education was being described as inelastic (i.e., demand would continue to grow regardless of price). After decades of unfettered tuition increases and college administrators gleefully watching parents tap the equity in their homes to pay, the party may be coming to an end. With 30-40% of US homes with no equity and lenders tightening requirements on those rightside up, parents are beginning to push back.

The list of sectors of the economy that were artificially inflated by our debt binge grows longer. At the same time, the Federal Reserve continues to spike the punch bowl in an effort to get the debt cycle started once again. Meanwhile, the 112th congress has now made clear, they have no intention of being singled out as the party-poopers by putting the brakes on spending!

What last month's budget squabbles did reveal, however, is the frighteningly narrow range of solutions for reigning in the national debt. The whole enchilada of income tax increases that Obama sought (and ultimately settled for less) would have registered only $42 billion in annual revenue. Ending the mortgage deduction, sacrilege to many, would only raise an estimated $92 billion. Limiting the deductiblity of employer provided health benefits, only an estimated $110 billion.

Looking back nostalgically on 2006 when the Federal annual deficit was a mere $248 billion, these tax measures each in their own would have been considered meaningful. But with the deficit for 2013 again predicted to be in excess of $1.1 trillion, taken in their totality they hardly appear even significant.